In-Depth

Tips for buying hosted software

• By Steve Ulfelder
• February 1, 2005

For software decision makers and others charged with purchasing business software, SaaS will be both novel and familiar. The fundamental principles of contract negotiation haven’t changed just because a new buzzword has been added to the lexicon. You’ll still need to determine how many seats you need for a given app, then determine the term of the contract, and finally seek the deepest discounts. The typical SaaS contract structure charges $X per month (or quarter) for Y end users.

That’s where the novelty comes in. The usual host-it-yourself software license does not include maintenance or support fees, but most SaaS fees cover support and maintenance. During the first ASP boomlet from the late 1990s to 2001, many providers had little idea what their own expenses were, according to Herb Van Hook, an independent industry analyst, and this Business 101 failure hastened their demise when the dot-com frenzy subsided.

Today, by contrast, "Most ASPs have done a better job figuring out their cost structure and business model, so their pricing is much closer to reasonable from the seller’s point of view, and there’s less room for discounting," Van Hook says.

Also, many enterprise software vendors are offering hosted versions of their tools at relatively low margins in hopes of overcoming buyers’ skepticism. Unishippers CIO Kevin Lathrop says when his company negotiated with IBM for a hosted version of Seibel’s CRM application, IBM was "really aggressive and creative—they were very flexible on a lot of factors."

For these reasons, you probably won’t be able to negotiate the massive discounts common in the traditional packaged-software industry, in which list price is generally something of a joke. "With this [hosted] model, you’ve got to keep in mind the deep discounts won’t be there," Hoch says. According to Van Hook, volume is your most fruitful negotiation point; to lower your cost per seat, add more seats.

Here are some other negotiating tips: • Differentiate configuration and customization. Be sure your contract spells out what the vendor considers configuration—easily performed changes in the app such as user-interface modifications and frequency of report delivery—and what changes the vendor says are customization. The latter is expensive, while the former should be free or nearly so. If you fail to define this, your supplier may try to hit you with customization fees when you ask that the default release be tweaked in any way. • Look at the provider’s stability. It’s especially important in an immature field such as SaaS. At some point, consolidation is inevitable. Indeed, Lathrop says two of the vendors Unishippers considered last year have since gone belly-up. • They have your data. "You need to have an exit strategy," Van Hook says. Be sure to negotiate transition support: how long it will take the provider to return or hand off your data, what notice is required on both sides, and so on. • Cover all the bases. A SaaS contract is more an outsourcing deal than a software purchase, so negotiate accordingly. Get SLAs on availability, response times, notifications of outages and how soon after a failure you must be notified. Other issues you must address: regulatory compliance, data integrity, data privacy, frequency of backup, support and disaster recovery. • Budget for surprises. Even when you think your bases are covered, you may run into nasty surprises. Unishippers’ CIO, Kevin Lathrop, says the "only black eye" he gives IBM’s SaaS is poor monitoring and notification of system health. Unishippers had to build its own monitoring system, a “totally unanticipated” layer and expense, he says.